Derivative Claim Exception Fails
Liability insurance policies invariably exclude defense or indemnity of one insured sued by another insured of the same policy. The reason is obvious, the potential for collusion and fraud are high.
In Sunrise Specialty Company, Inc. and Robert Weinstein v. Scottsdale Insurance Company, No. 16-16856, United States Court Of Appeals For The Ninth Circuit, (December 27, 2017) the insureds, Sunrise Specialty Company, Inc. (“Sunrise”) and its CEO, Robert Weinstein, appealed from the district court’s entry of summary judgment in favor of the insurer, Scottsdale Insurance Company (“Scottsdale Insurance”).
In October of 2014, three of Sunrise’s minority shareholders (and former members of its board of directors) filed suit against Sunrise and Weinstein alleging, among other things, that Weinstein had breached his fiduciary obligations to the corporation. Sunrise promptly notified Scottsdale Insurance of the suit and demanded a defense and indemnification under the policy. Scottsdale denied coverage, invoking the policy’s “insured vs. insured exclusion,” noting that because each of the plaintiffs had previously served on Sunrise’s board of directors, each was an “Insured” as defined in the policy.
Sunrise and Weinstein sued Scottsdale Insurance in federal court, asserting claims for breach of the insurance policy and breach of the duty to defend, as well as breach of the covenant of good faith and fair dealing. The district court granted Scottsdale’s motion for summary judgment, concluding that the pertinent policy language was unambiguous, there were no genuinely disputed issues of material fact, and the policy’s “insured vs. insured” exclusion applied. The trial court ruled that Scottsdale had, as a matter of law, properly denied coverage.
Surprisingly, all parties agreed that the plaintiffs in the underlying state suit are “Insureds” as defined in the policy and, therefore, the policy’s “insured vs. insured” coverage exclusion does apply. Sunrise and Weinstein contended that an exception to that exclusion, known as the “derivative claim exception,” also applied, thereby triggering coverage. The district court found that it did not.
The “derivative claim exception” applies only if the underlying suit was “brought derivatively by a securities holder” and was “instigated and continued totally independent of, and totally without the solicitation, assistance, active participation of, or intervention of, any Insured.” Sunrise argues that the underlying plaintiffs were merely “nominal parties” who did not instigate, assist, or actively participate in the underlying lawsuit.
The Ninth Circuit concluded that the insured’s suggestion was speculative and unsupported by the record. Scottsdale argued that because a lawsuit cannot be instigated and continued totally independent of its named plaintiffs, the derivative exception would still not apply even if the named plaintiffs had a minimal role in conducting the litigation.
Regardless, Scottsdale refuted the argument that the plaintiffs were merely nominal. The record revealed that the underlying complaint includes statements taken directly from personal emails that Weinstein sent to the underlying plaintiffs. Plainly, then, those underlying plaintiffs (all of whom are “Insureds”) at least “assisted” and/or “actively participated” in drafting the complaint by providing counsel with copies of those emails.
The record disclosed, therefore, no genuine dispute with respect to any material fact. The Ninth Circuit concluded that the district court correctly concluded that, as a matter of law, the “derivative claim exception” does not apply, and Scottsdale properly denied coverage under the policy pursuant to the “insured vs. insured” coverage exclusion.
In an exceptionally short, concise opinion, not typical of the Ninth Circuit, the clear and unambiguous insured vs. insured exclusion was found to apply and the plaintiffs’ claim for defense and indemnity properly failed.
© 2017 – Barry Zalma
This article, and all of the blog posts on this site, digests and summarizes cases published by courts of the various states and the United States. The court decisions have been modified from the actual language of the court decisions, were condensed for ease of reading, and convey the opinions of the author regarding each case.
Barry Zalma, Esq., CFE, now limits his practice to service as an insurance consultant specializing in insurance coverage, insurance claims handling, insurance bad faith and insurance fraud almost equally for insurers and policyholders. He also serves as an arbitrator or mediator for insurance related disputes. He practiced law in California for more than 44 years as an insurance coverage and claims handling lawyer and more than 50 years in the insurance business. He is available at http://www.zalma.com and email@example.com.
Mr. Zalma is the first recipient of the first annual Claims Magazine/ACE Legend Award.
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